Using Business Losses to Offset Income

Last week, I wrote about helping my sister set up her antique/collectibles business. She asked me a good question that I thought you might also want to know about: what happens if he business loses money? For the first few years in a new business, having more expenses and income is a distinct possibility. So how is the loss handled on a tax return?

For a sole proprietorship or a single-member limited liability company (LLC) (taxed as a sole proprietorship) as she is, it's a simple matter of figuring up your income and expenses and entering them on the Schedule C for your personal tax return (Form 1040). If you have losses that are at risk, you can use the entire loss to offset your other income.

For a partnership, the process works the same way, except that your losses are limited to your investment "basis" in the business. For more information on how this works, I have a new article on how to determine business losses and how they offset other income that includes a detailed example.

Don't forget that the partnership completes an information tax return (Form 1065) and the partners each fill out a Schedule K-1 that is included with their personal tax return.

The key to making sure you get credit for all your losses is keeping track of deductible expenses. The more legitimate expenses you can deduct, the bigger the loss you can claim. Even though tax season is months away, review your record-keeping systems and make sure you take all those expenses.